Another Key Test Ahead

If the S&P 500 and Nasdaq fail to remain above their February lows, it could open the door for another move lower

By Mark Arbeter

The major indexes have moved back to the bottom of their recent trading ranges and it will be important that the lows reached in February hold. Important support for the S&P 500 comes in at 1074 to 1080 with support for the Nasdaq at 1700. Both indexes remain in bearish, downward-sloping channels since the latest highs were posted in March. While we do expect a successful test of the levels mentioned, our neutral intermediate-term outlook remains the same.

The market has drifted in a sideways fashion for over four months, following the sharp, liquidity-driven rebound off the September lows. The top of the recent trading range for the S&P 500 is near 1180, and that area has been a brick wall for the index. The "500" has failed to break through that zone four consecutive times. The 1180 area has acted as a ceiling for the index because there was a lot of buying done in that zone in December, and that area represents the bottom of a trading range this past summer.

In simple terms, there is a lot of supply of stock in that area so every time the "500" tries to bust out; investors sell stock they purchased months ago in an attempt to break even or minimize their losses. If the "500" can eventually break out above the 1180 zone, gains could be swift and a move to the mid-1200s would then be possible. At this point however, we believe the index will continue to drift between 1080 and 1180.

The Nasdaq has multiple layers of overhead resistance starting in the 1870 area and continuing up to the highs set in March at 1945. Beyond that, resistance is thick up to the 2100 zone. Important support comes in at the February lows near 1700. If that area were to give way, there is a small area of chart support down to 1628. A break of this level would open the potential for a full-blown retest of the September lows in the 1400 area.

While we continue to see a trading range environment for the Nasdaq between the high 1600s and the 1900 area, the index is much more susceptible to larger losses than the "500" due to weaker volume breadth and poor chart formations of the major technology stocks.

The slow price erosion of late has been on very light volume. In fact, average volume on the Nasdaq and the NYSE has been the lightest (excluding holidays) since the anemic levels of last August. The lack of volume is a clear sign that institutions are on the sidelines despite the buildup of cash levels. Without institutional sponsorship, the market is destined to move sideways at best. If anything, institutions have been net sellers of late; as the up/down volume figures on both the NYSE and the Nasdaq have been negative.

Market sentiment is a difficult read at this point. Intermediate-term sentiment indicators such as the Investor's Intelligence poll and the 30-day CBOE put/call ratio are giving off conflicting signals. This is highly unusual for two important sentiment readings to be at the opposite end of the spectrum. The Investor's Intelligence poll of newsletter writers is firmly tilted toward the bullish side with 52.6% of writers polled bullish and 30.9% bearish.

At the same time, option players have taken a bearish stand on the market. The 30-day CBOE put/call ratio has increased to 0.78, close to a bullish level of 0.80. Previous readings over 0.80 have preceded very nice intermediate-term advances. The last time these two sentiment indicators went to this type of extreme, with newsletter writers bullish and option players bearish, was in early 1996, and the market ended up going sideways for seven months.

The market, while well supported below, has a massive amount of overhead resistance and is destined to continue its sideways trek for the months ahead.

Arbeter is chief technical analyst for Standard & Poor's

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